I’ve shown you how to use the bull put spread to dominate minor upward market moves.
And I introduced you to the bear call spread… which you can use to take advantage of smaller market downticks.
Both of these strategies are great to use when wanting to further leverage your cost of an option trade beyond buying calls or puts.
But there’s one thing we haven’t talked about yet…
How to play a flat market.
Here’s what you’ll need when the markets just won’t budge…
Make Money in a Flat Market Using the Iron Condor
The “iron condor” is a non-directional options trading strategy you’d use when you expect a stock to maintain a certain price (or stay within a price area) for a specific time frame and to have relatively low volatility.
This strategy is a called a four-legged option trade because it’s constructed using the “two legs” of the bull put spread and the “two legs” of the bear call spread – all on one order ticket. You’ll want to discuss the commissions for this trade with your broker because the four options are a part of one trade – not four separate trades.
The construction of the iron condor is to sell an out-of-the money (OTM) put and buy an even lower OTM put. And on the same ticket, one would sell an OTM call and buy an even higher OTM call.
And the end result of this is (or should be) a net credit to your account.
Let’s take a close look at the iron condor on an options order form…
Click to View
In the image above, you can see the bull put spread in the green box and the bear call spread in the red box. Remember, all of these are to be entered as one trade.
The key to making the iron condor strategy work for you is to set up your bull put spread at or below a support point while setting up your bear call spread at or below the resistance point. You can look at spreads at different strike prices to see the different profit potential and probabilities of each one. The reason being… these spreads are using what’s considered OTM options.
Here’s an example using GlaxoSmithKline plc (NYSE: GSK), which I found while using my tools to identify stocks that are trading in a reliable channel (or sideways range).
All Options Must Expire to Realize the Maximum Profit on an Iron Condor
The iron condor strategy is one that requires all four options “legs” expire in order to realize your maximum profit.
And in order for all four legs to expire, the stock has to stay between both of the selling strike prices. In the image above, this means that the stock must stay between the strike prices of 38 and 42. The greater the distance between the strike prices, the more credit you’ll receive for the trade – increasing the probability of your profit and limited your maximum potential loss.
If the markets do not exercise two of the “legs” (the options), then the other two “legs” do not need to be exercised. And this means that you get to keep the credit you received when you opened the iron condor trade.
We’re going to look at the potential maximum return on the trade below. But I want to be clear that I am NOT recommending this trade to you. I’m only showing it to you for educational purposes.
As you can see above, the maximum potential return on this trade is 33%.
Now I realize that I’ve been spoiling you by showing short-term, directional option strategies (like the long call or long put) that can garner 100% returns.
So this maximum return of 33% may seem a bit underwhelming to you.
But, let me ask you this…
In times like these when the market is getting kicked downhill, could you still use that 33% return?
And as unpredictable and volatile as the markets have been, having an income-earning plan for a flat market is just as important as having one for upward and downward move.
So the next time you see the markets at a standstill, consider the iron condor. And let me know how you do in our comments board.
|STRATEGY: 3 Options Strategies for 3 Market Moves
We’ve been looking at ways to make money while minimizing risk. Last week, we talked about a powerful play for making money off of smaller downward moves. This week, we shifted our attention to a strategy for profiting off of minor downward market moves. And today, we discovered a way to capitalize on neutral markets. Here are the three strategies to use and when to use them:
- Slight upward market moves: the bull put spread
- Slight downward market moves: the bear call spread
- A flat market: the iron condor
Talk to you soon…
P.S. Stay tuned this week… we’ll talk about risk and an analysis method that works, even in today’s unpredictable markets.